2023-11-06 21:42:03 ET
Summary
- McCormick & Company rated hold today, in line with consensus from analysts, Wall Street, and the quant system.
- Positive points are revenue growth, positive sales outlook, growth in cash flow, and equity with drops in debt.
- Headwinds include net income declines, underperformance vs. S&P 500, and overvalued on the P/E ratio.
- Risks of recession impact and debt load have been discussed too.
Research Note Summary
Today's research note really spices things up by covering McCormick & Company ( MKC ), a well-known household brand and common sight among supermarket grocery aisles, as well as a market leader in the packaged foods and meats sector.
I gave it a hold rating today.
Positives driving this sentiment are revenue growth, positive sales outlook, nice cash flow and equity metrics, a cheap share price relative to the moving average, and nice return on equity.
Some headwinds it faces are increasing interest costs, profitability declines, low dividend growth, and poor market momentum vs the tech-heavy S&P 500 index.
Risks of recession and debt loads have been discussed.
Methodology Used
My WholeScore Rating methodology looks at this stock holistically across multiple categories including key risks, and assigns a rating score. I exclusively cover stocks and foreign ADRs that are dividend-paying and trade on major US exchanges only (NYSE, Nasdaq).
Some of the data comes from the most recent FY23 Q3 results from Oct 3rd, while the forward-looking sentiment relates to the upcoming FY23 Q4 earnings results expected on Jan. 26th.
Growth vs. Industry Peers
The table below is a selected list of peers within the packaged foods and meats sector, to compare each other's YoY revenue growth .
These companies were chosen due to all having a large market share and a major presence in supermarkets across various grocery products.
While McCormick as a brand may be better known for its spices , particularly its pepper and iconic logo, you might not be aware that it also produces items like tea, ready-to-heat sauces, taco mix, and several others.
As I have covered a few food stocks lately, I quickly realized that it is a capital-intensive, high overhead and sometimes high debt industry that requires large-scale production facilities and an efficient global supply chain, so it depends on sales growth and getting its product out of the warehouse and onto store shelves, and then into your kitchen... so fresh inventory can be restocked.
In this group, Mondelez ( MDLZ ) came out on top with 16.2% YoY revenue growth, whereas McCormick was stuck somewhere in the middle of my group with a paltry 3.45% growth, missing my goal and coming in below the peer group average.
It is evident that McCormick is in the right direction in terms of top-line revenue, though I would like to see it even stronger in this peer group.
Its Q3 earnings presentation said the following, for example:
Financial Statements
The table below compiles several data points that matter to me as an analyst, that I wanted to touch on.
For example, the income statement shows a near 6% YoY revenue growth, beating my goal. However, at the same time it also shows a nearly 24% YoY drop in net income , missing my goal there, and indicating a profitability problem.
From the cash flow statement , we can see that the free cash flow per share has increased by over 500%, which is quite attention-grabbing.
As for the balance sheet , we can see a 10% YoY growth in positive equity, also beating my target.
Looking forward to the Q4 results in a few months, my sentiment is that the top-line will continue to be positive, and evidence of this is the company's own 2023 outlook which anticipates continued demand:
Keep in mind that we are now approaching the very busy holiday season from late November through early January and this period should lead to a lot of shopping for recipe ingredients, which includes spices.
The company also indicated in its Q3 earnings comments that the top-line strength also helped out profitability, rather than a major drop in costs:
In constant currency, adjusted operating income increased 5% from the year-ago period driven by the favorable impact of higher sales and gross margin expansion partially offset by higher selling, general, and administrative expenses.
Dividends
The dividends picture is lackluster at best, in my opinion. When comparing the quarterly dividend amount from Oct 2023 with that of Oct 2020, it actually shows a 37% decline.
In terms of dividend yield, McCormick's is almost 14% below the sector average, missing my goal and losing a point in this category.
What a dividend investor can hope for in continuing to hold this stock is an expectation of continued quarterly cash flow that is steady, unless the board decides otherwise, and at 2.4% forward yield it is neither great nor terrible either.
Since the share price took a nose dive below the moving average this summer, as I will show in the next section, this also could have provided a bump to dividend yield and a rebound of the share price may drive the yield down looking ahead, which is hard to say at this point for sure.
Share Price vs. Moving Average
My portfolio strategy calls for finding crossovers below the 200-day moving average and dip-buying opportunities.
Looking at the chart below, I welcome your thoughts in the comments section as to whether you see any dip-buying opportunities here. Why or why not?
In my opinion, the current price being over 19% below the 200-day moving average could be a possible buy opportunity if it stays in this range, but does not necessarily mean the stock holistically presents a "buy" rating however.
From my table, I gave this stock a rating point since it looks to be really cheap vs the moving average.
Share price is only one factor, however, so in the next section we will also talk about this stock's momentum vs a major index. This is why I don't recommend looking just at a price chart that may appear cheap, without also considering all the other key metrics relevant to an investor.
Performance vs. S&P 500 Index
The 1 year price performance of this stock was actually negative, at -15.37%, being almost 190% below the S&P 500 index performance in that same period, an indicator of poor momentum .
It appears that the momentum for this stock dropped sometime in June. This summer there was also talk in the media about potential for recession, as well as continued inflation and the Fed's continued rate hikes, so it is hard to pinpoint what single factor drove the momentum down. I suspect it has to do with downward market pressure on this sector itself.
For instance, its peer Mondelez also saw a momentum dip in June, as did peer Hain Celestial ( HAIN ) whose dip happened much earlier, as did that of Kraft Heinz ( KHC ).
On the contrary, we can see the opposite occur with big tech, just looking at the momentum chart for a stock like Facebook's parent company Meta Platforms ( META ):
So, this thesis of mine shows at least some evidence that even though companies within a sector may have revenue growth and or be profitable, the market may be less interested in that sector than in others, and as an investor, this matters because it can push or pull my share price up or down greatly even if the fundamentals of the company are decent.
Valuation and ROE
The valuation metrics and the return on equity tell an additional story about this stock.
For example, the forward P/E ratio shows a P/E that is 42% above the sector average, thereby showing overvaluation.
The price to book is also higher than the sector by almost 28%, showing overvaluation there too and losing another point in my rating.
Winning in this category is the return on equity of 13.4%, which beat its sector average by almost 15%.
From the evidence I described earlier and 24% YoY drop in net income, I would say the fall on the earnings side is what is driving the P/E ratio higher, and not a spike in the share price.
The P/B ratio actually was higher before, with the 5-year avg being 4.11, now almost 15% below the average. So when considering that equity has improved lately, I expect the P/B going forward to continue to come down.
Key Risks
One risk that an analyst may consider here is recession risk, however, this company essentially sells grocery products and I think this space is less recessionary than for example selling vacations or luxury watches.
A mid-October article in The Wall Street Journal also pointed to the following:
In WSJ survey, economists lower recession probability below 50% and say Fed is finished raising interest rates.
So, the real risk I am concerned with in capital-intensive companies like this is level of debt, particularly in this interest rate environment where debt costs more than ever.
For example, consider that interest expenses for this company rose 39% on a YoY basis, according to the table below.
However, at the same time, debt levels dropped by almost 13%, which I think is a step in the right direction for a company with $3.4B in long-term debt and just $155MM in cash.
From the data, I created the following table where I determined that because the rising interest expense is offset by the drop in debt levels, I am giving this stock only a medium risk score, which is tolerable.
WholeScore Rating
In today's note, this stock got a WholeScore of 5, earning a "hold" rating from me.
McCormick - WholeScore (author analysis)
Interestingly, my rating today agrees with the hold consensus from analysts, Wall Street, and the quant system.
McCormick - rating consensus (Seeking Alpha)
My Forward-Looking Sentiment
In line with the analyst and quant system consensus, I have to agree that this stock currently does not justify bullishness or bearishness either, but a neutral sentiment, and I have shown why.
Looking forward to its Q4 results due in a few months, I expect continued top-line revenue growth combined with continued headwinds to profitability due to a higher cost environment. The holiday food shopping season should provide an extra sales jump, which could help since McCormick ingredients are a key staple to many holiday dishes. Just think of cinnamon and the smell of hot pumpkin or apple pie this season!
McCormick is a time-tested brand that I don't think is going anywhere, has a nice market share on supermarket shelves as well as consumer brand recognition, but also has to face competition from store brands and others.
I remain neutral on this stock, which could be a dividend-income play right now if I were a cash flow investor. It is too cheap to sell, I think, and could have been a buy if all the other metrics were better, so if I were owning this one I would hold on until it rebounds back above the 200-day SMA again.
For further details see:
Hold McCormick To Spice Up A Dividend Portfolio, Until Profits Heat Up Again